Maintain HOLD; Target Price at S$7.15.

We maintain our HOLD rating but lower our Target Price to S$7.15 from S$7.82 on UOL Group (UOL) based on a higher discount to RNAV of 40% vs 35% previously.

Although UOL's share price is at attractive valuations (at close to 2SD below historical average), we see limited catalysts for the stock and sector given expectations of a property market slowdown which historically implies that UOL's share price will likely be trading in a range.

Where We Differ: More room for pricing with land bank acquired at a lower price.

Although UOL is one of the proxies to Singapore property, we believe the company may be less impacted as being the earliest to land bank at a lower price would offer more room in pricing its properties (except Silat Avenue and Nanak Mansions which were acquired in 2017/18).

In addition, upward trends in office rents and hotel RevPAR bode well for UOL’s office and hotel investment properties.

Potential Catalysts:

Property sales remain strong despite ....

Valuation:

Maintain HOLD rating with a lower Target Price of S$7.15, pegged to a 40% discount to our RNAV, taking into account the heightened uncertainty from government tightening measures.

Key Risks to Our View:

Economic slowdown. The downside risk to our projections is if residential sales are slower than our projections or if commercial properties and hotel operations are impacted by slower-than-projected growth in rental/room rates.

WHAT’S NEW - A warm Christmas for UOL

First foray into Australia office market; potentially leading to more, in line with its plan to build recurring income.

UOL announced the acquisition of an office building in Sydney, Australia for A$155m, its first foray into the office market in Australia. This is also the first acquisition after the announcement to appoint Mr Liam, current Deputy Group CEO, as the new Group Chief Executive effective from 2 January 2019. We understand that the price is close to the asking price of A$150m. In UOL’s announcement, it is said that “the acquisition is in line with the Group’s plan to diversify its presence in Australia and to strengthen recurring income streams”.

The freehold property is located at 72 Christie Street, St Leonards, Sydney Australia. This is located in North Sydney, a much sought-after suburban office area and alternative to vacancy constraints and major stock withdrawals in Sydney CBD.

According to news report, the seller, Proprium Capital Partners acquired the building in February 2017 for A$76m at an 8.5% initial yield. It was then leased to WPP ANUZ, formerly known as STW Communication Group. However, in July 2018, we understand that Mastercard signed a 10-year lease at 72 Christie Street to consolidate its four existing offices across Sydney. Mastercard took occupancy in 3Q18.

According to Savills Research, the yield for an A Grade office building in North Sydney ranges from 5.0-5.5%.

With this first foray into Australia office property, this could lead to further expansion and diversification of its assets in Australia. We believe this acquisition will contribute to building UOL’s recurring income base as sentiment on Singapore property weakens. The freehold property with a long WALE and 100% occupancy will provide a stable stream of income and reduce earnings volatility risks.

UOL’s 9M18 earnings fell 63% y-o-y to S$299m, mainly due to the recognition of negative goodwill of S$535.6m in 9M17 on acquisition net of the loss on derecognition of associated and JV companies arising from the United Industrial Corp (SGX:U06) consolidation. Excluding fair value and other gains, 9M18 net profit would have fallen 3% y-o-y to S$260m largely due to lower contributions from property development, higher amortisation of development property due to United Industrial Corp consolidation (S$19m in 9M18 vs S$6m in 9M17) and offset by higher dividend income declared by UOB (SGX:U11) (S$48m in 9M18 vs S$30m in 9M17).

9M18 revenue grew 41% y-o-y, mainly due to the consolidation of United Industrial Corp’s investment properties and 120 Holborn Island.

3Q18 revenue fell 3% y-o-y despite higher revenue from property investments led by the consolidation of United Industrial Corp (SGX:U06) mainly due to less property development (-43% y-o-y) as older projects completed/approaching completion were offset by new projects such as The Clement Canopy and Amber 45.

Gross margins improved to 45%.

Gross margins improved....

Outlook

Expected to launch remaining land bank (Nanak Mansions and Silat Avenue) of more than 1,000 units in 2Q19.

Amber 45 (launched in May 2018) and The Tre Ver (launched in July 2018) continue to ....

Upward trends in office rental rates; retail remains challenging.

Management continues to see office rental rate uptrends and healthy demand. 26% of its office leases are expiring in 2019 and the bulk of it is in Odeon Towers expiring in mid-2019 and management sees healthy enquiries to back-fill the space. Management still sees challenging environment in the retail space (such as Marina Square) but OneKM is now seeing flattish rental reversions. The office rental market in Midtown remains steady despite Brexit.

Rental reversions remain positive for both its office properties and 110 High Holborn, which has achieved 100% occupancy.

Maintain HOLD; lower Target Price to S$7.15.

We maintain our HOLD rating on UOL but lower our Target Price to S$7.15 from S$7.82 based on a higher discount to RNAV of 40% (35% previously).

We reduced our FY18F-FY20F earnings estimates by 13-22% mainly reducing share of associates or JV results from completion of projects and the consolidation of UIC’s projects. It is currently trading at 0.5x FY19F P/NAV, at close to 2 standard deviations below the historical average traded during the last property cycle (FY13-17).

While UOL's share price is at an attractive valuation which implies that the potential downside risks from the recent implementation of new cooling measures is limited, we see limited catalysts for the stock and sector given expectations of a property market slowdown which historically implies that UOL's share price will likely be trading in a range.

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